The widening gap between declining incomes and higher costs has been filled
with borrowed money. Now that borrowing has reached its limit, and the consumer
economy is devolving.

Earlier this week I discussed the devolution of the consumer economy with a
focus on the diminishing returns of consumption and the limits imposed by servicing
ever-growing debts.
Today I will address a series of other interconnected reasons why the consumer
economy is devolving.

Here's the basic mechanism: when money is "free," costs rise. If you had to
explain why sickcare in the U.S. consumes 17% of our nation's GDP while other developed
nations provide universal care for half that cost per capita (7-9% of their GDP),
the answer boils down to "there's an unlimited amount of free money here for sickcare."
There are no real limits on Medicaid or Medicare spending, and none on insurance
cartels (it's a free market for health insurance, except there's only two providers
in your area and their prices are the same--welcome to a "free market," hahahahaha).

In other words, thanks to lack of competition via Central State-granted quasi-monopolies
to cartels, and virtually unlimited sums of money for Federal programs, then the
sky's the limit on cost.

If Medicare limits the cost of an MRI, just triple the number of MRIs you give.
Don't laugh--that's exactly what happens. Then there's the hundreds of billions of
dollars in outright fraud the system routinely pays.

You provide endless free money, costs go up. Look at the education cartel,
another parasitic system latched onto the Central State. Once you enable students
to borrow $36,000 a year, then magically the costs of a year in college (or for-profit school
offering worthless "skills" that do no more for the hapless student than a high school
diploma) rise to $36,000.

The same dynamic results when oceans of credit are available: assets inflate into
bubbles, and costs rise concurrently. The commercial space that once was valued
at $1 million magically rises to $3 million when cheap, abundant credit sparks a
real estate bubble. As hot money chases higher returns, the costs of servicing that
debt rise with every flip and purchase. And it's not just debt servicing which costs
more as a result--property taxes jump, too.

After a few lucrative flips, the new owner is staggering under a huge mortgage
and crushing property taxes. So the space which only a few years ago rented for $1
a square foot now costs $3.50 a foot, just for the owner to break even.

That pushes the higher costs down on the small business tenant, who sees their profits
vanish. When business sours in the inevitable credit-bubble bust downturn, then
the tenant bails, and the landlord is underwater.

Bureaucracies and institutions may suffer from Baumol's Disease, but they also
suffer from the Ratchet Effect: they only know how to add expenses and
scale up.
Productivity, Baumol's Disease and the Cliff Just Ahead (December 8, 2010)
Baumol's Disease describes the rising costs of sectors whose productivity gains lag
behind more productive sectors. Thus education costs more even as manufactured goods
fall in price, as labor-intensive education doesn't lend itself to leaps in productivity.

But Baumol's Disease doesn't explain why fighter aircraft now cost $300 million each
when the "best of the best" five years ago cost $56 million, or how Medicare has
leaped from $52 billion a year to $600 billion a year in a decade. Nor does it
explain why property taxes have risen 60% above inflation in the past 10 years.

What does explain these gigantic increases is monopoly powers granted to
cartels by unaccountable State fiefdoms. With the Federal government able to
borrow and spend without any visible limits, then the sky's the limit on everything from
MRI tests to Medicaid to foreign wars. With the public unable to opt out of local
government, then local government expands and passes the costs onto the private-sector
tax donkeys.

Real wages have been stagnant for decades--but in the last decade, they actually
fell by 8%.
Median household income of the U.S. fell from over $52,000 in 1999 to
$49,777 in 2010:
The Lost Decade.

The key feature of financialization is that the outsized profits and opportunities
come not from producing goods and services but from leveraging, borrowing,
obscuring risk and gaming widely ignored regulations. Banks made money not from
prudent loans but from taking $1 in deposits and originating $50 of risk-laden loans from that
paltry capital. Wall Street reaped billions by packaging high-risk mortgages as
"low-risk" investments.

The housing bubble offered the ambitious debt serf a rare opportunity to lie
and leverage just like Wall Street. Anyone with sufficient chutzpah could buy
a number of houses with no-document "liar loans" with option-adjustable rate loans
at super-low rates of interest, hold the homes for a few months and then flip them
for profits.

A few thousand dollars in closing and carrying costs could be leveraged into tens of
thousands of dollars in profits which could then be pyramided into more leverage.

Debt serfs soon discovered a key difference between their own reckless speculation
and Wall Street's reckless speculation: the over-leveraged debt serf was chided
as irresponsible when his mini-empire of debt collapsed in a heap, while Wall Street was "saved" by
trillions of dollars in Federal cash, credit, backstops and guarantees.

With incomes declining, assets imploding and reckless banks suddenly risk-averse,
consumers can no longer borrow to fill the widening gap between their income and
their consumption. Not to worry--the Federal government has stepped in and borrowed
and blown the $5 trillion that the consumer would have borrowed in the past four years if
he'd been able to. (Make that $6.5 trillion by October 2012.)

So now one unsustainable course of debt expansion has been replaced by another
unsustainable course of debt expansion. The apologists and apparatchiks of the
Status Quo keep claiming that the State is borrowing 11% of GDP only until private
demand roars back to life.

This conveniently overlooks the fact that the private sector has been squeezed by
declining incomes and rising costs to the point that it no longer has any discretionary
spending money nor does it have the leverage to borrow more. It also no longer has
enough assets to support reckless bubble borrowing.

Debt has this funny characteristic: interest must be paid.
Even at low interest rates, this interest becomes an ever-larger drag on income.
At some point the interest costs take every last dollar of disposable income, and
carefree consumption disappears from the economy.

That point was reached in 2008. The Federal debt orgy has simply created an illusory
stability and normalcy via "extend and pretend" manipulation and intervention.
But the debt serf and his
bubble-era mini-empire of expanding debt has been insolvent for three years.
The two-decade game of backfilling the widening gap between stagnant income and carefree
consumption can no longer be filled with borrowed money.

"This guy is THE leading visionary on reality.
He routinely discusses things which no one else has talked about, yet,
turn out to be quite relevant months later."
--Walt Howard, commenting about CHS on another blog.

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